Fed Report Card for Banks: Resilient, But Must Remain Cautious

The US banking system remains “sound and resilient” despite recent high-profile failures, according to the Federal Reserve.

The Fed’s latest Supervision and Regulation Report outlined that banks had strong capital positions and good liquidity, but the cases of Silicon Valley Bank, Signature Bank and First Republic Bank mean the sector should remain “vigilant”.

The failures “demonstrated the risks of concentrated funding sources and poor management of interest rate risks”, the Fed’s report stated. It highlighted the falling values of bonds and other investment securities, rising deposit costs, and higher loan delinquency.

“Banks have increased provisions for credit losses in anticipation of asset quality deterioration,” the Fed stated. “Accordingly, supervisors are redoubling their efforts to assess banks’ preparedness for emerging credit, liquidity, and interest rate risks.”

This preparation began last year as interest rates began to rise, with a focus on liquidity management and interest rate risks.

“Federal Reserve supervisors have also increased efforts to evaluate banks’ credit risk exposure, with particular attention being focused on regional and community banks’ commercial real estate lending,” the report said.

Over the six months to the end of March, banks’ collective loan balances grew but the pace of expansion slowed, according to the Fed. The was echoed by data collated by S&P Global Market Intelligence, which showed that community banks’ loan growth averaged 1.3% for the first quarter of this year, compared to a 3% growth rate in the fourth quarter of last year.

Banks are already tightening lending standards, particularly for commercial and industrial loans to large and medium-sized companies, according to the Fed’s latest Senior Loan Officer Opinion Survey.

This was largely due to concerns over the economic outlook, the survey found.

The Fed’s survey announcement stated: “Banks also reported having tightened all queried terms on C&I loans to firms of all sizes over the first quarter. Tightening was most widely reported for premiums charged on riskier loans, spreads of loan rates over the cost of funds, and costs of credit lines.

“In addition, significant net shares of banks reported having tightened the maximum size of credit lines, loan covenants, and collateralization requirements to firms of all sizes.”